As president of the European Central Bank (ECB), Mario Draghi most probably saved the euro. In my estimation, this makes him one of history’s greatest central banker, outranking even the former Fed chairs Paul Volcker, who brought inflation under control, and Ben Bernanke, who helped overt a second Great Depression.
In a way, then, it wasn’t surprising that last year Draghi was brought in to lead Italy’s new coalition government – often labeled “technocratic”, but actually more a government of national unity created to deal with the aftermath of the COVID-19 pandemic in which Italy’s government guaranteed business loans of around 120 billion euro.
In a properly functioning democracy, nobody should be indispensable, but Draghi in my opinion arguably was, as the only person with the prestige to hold things together. But even he couldn’t pull it off. Facing what amounted to sabotage by his coalition partners, Draghi simply resigned, creating fears that the coming election will put anti-democratic rightwing populists in power. And let me tell you something, I have no idea what will happen.
Italy, like any nation, is unique in many ways, but not in some of the ways many people imagine. No, it isn’t necessarily fiscally irresponsible. No, it’s not incapable of running its internal affairs. And the threat of a takeover by the authoritarian right is hardly special to Italy; if you aren’t terrified by that prospect in America, you haven’t been paying attention. True, Italy does have a problem with economic stagflation, but in the coming months – if not years – other industrial nations will share that problem. But in Italy, even before the pandemic struck, the country experienced two decades of economic stagnation without growth in real domestic product per capita. That stagnation in my opinion is important, and also a major economic puzzle. But surprisingly it doesn’t seem central to current events.
In other ways, Italy seems surprisingly functional given its reputation. Notably, it did a far better job than the United States in getting its population vaccinated. And while Americans on average have higher incomes than Italians, they’re also far more likely to die younger.
What about Italy’s reputation for fiscal irresponsibility?
There for sure was a time when that notoriety was justified, and past imprudence left Italy with relatively high debt but still along some other European nations, Japan, or even Britain for much of the 20th century. But in recent years, Italy in my opinion has been quite disciplined in its spending. Until the pandemic struck, Italy actually ran consistent primary surpluses, a bit bigger than the rest of Europe as a share of gross domestic product (GDP), and in sharp contrast to United States deficits.
In 2010-2012 Italy, along with other southern European nations, experienced a debt crisis, with a remarkable “10 spread” – the difference between Italian and German interest rates – exploding. But that crisis in my opinion seemed more driven by self-fulfilling panic and less by fundamental insolvency. In effect, investors engaged in a run on the debts of southern European nations, creating a cash shortage that these countries, which didn’t have their own currencies and hence could not print more money, were therefore unable to resolve. That’s where Draghi came in. In July 2012, as European Central Bank (ECB) chair, he said three words – “whatever it takes” – that were taken as a promise that the bank would supply cash as needed to countries in crisis. And the more promise was enough as spreads plunged, and the crisis went away. Now, however, the spread is back. Not at 2012 levels so far: as of last month 10-year Italian bonds were yielding “only around 3 percentage points more than German bonds after Draghi’s resignation. But this time Italy’s crisis in my opinion will prove more intractable than the euro crisis of the early 2010s.
Now you might ask “why”?
Yes, it’s true that the ECB is, in effect, trying once again to pull a Draghi as it has introduced a new bond purchase scheme that is supposed to prevent the kind of market fragmentation that almost killed the euro a decade ago.
But while Christine Lagarde, the current ECB president, is smart and impressive, it’s in my opinion unclear whether one can pull a Draghi without Draghi himself. More important, what’s happening now seems more specifically Italian and less a matter of self-fulfilling panic than the last crisis.
Spreads on Spanish and Portuguese debt, which generally tracked Italy last time, are up to some extent, but much less than Italy’s. That may be because the driving factor now isn’t in my opinion so much simple financial risk as political anxiety. This is actually the second time since the great Draghi rescue that Italian bond yields took off. It also happened in the late 2010s when a right-wing populist coalition took power. And this seems all too likely to happen again, in my opinion it is already written on the wall except that this time the right-wing coalition will likely be even uglier.
Yield spreads therefore in my aren’t the important story here, although they’re not irrelevant either. The bigger picture is that at a time when Europe is already under severe stress – trying to respond to Russian aggression in Ukraine, trying to cope with a huge surge in inflation brought on in part by the foolish decision to rely heavily Russian natural gas – one of the continent’s major nations seems about to go off the deep end. This is not what we need.
On the other hand, how different is Italy really from the rest of the western world like for example France or even the US? The Italian crisis has in my opinion very little to do with fiscal profligacy or general incompetence; as I said, it’s all about the rise of antidemocratic forces, which is happening all across the West.
Italy’s political fragmentation – and the apparent inability of the counter – left to get its act together despite the clear and present danger from the right – may bring authoritarian parties to power sooner than elsewhere. But maybe not all that much sooner: It’s in my opinion not at all that hard to see how American democracy could effectively collapse by 2025.
Italy may well represent the West’s future by hitting the wall first.
The outlook for the West seems bleak.